Thought of the Day – House Flipping in Colorado

I overheard a very interesting conversation in a local coffee shop today between a realtor and a prospective client. It was the sales pitch that really shocked me as I could have sworn I was transported back to early 2005. She was using lines like “you’d be a fool not to buy with rates this low,” while also peppering the conversation with anecdotes about this “person she knew” that had just flipped a home for a 40k profit in just a few weeks. America is back folks.

Does this conversation translate into any actionable investment ideas? Not really, but it relates back to what I wrote several weeks ago regarding the equity markets. That people that know better are once again drinking the kool-aid. The one thing I do feel strongly about is despite ubiquitous prognostications of real estate brokers everywhere, housing is going to be in a deep slump for a very long time (unless we get hyperinflation of course, where anything is better than paper dollars). Despite all attempts to revive housing and trillions of dollars printed and then spent by the government, all housing has done is bounced around the bottom. Ex-hyperinflation I expect another major leg down within the next couple of years and even in hyperinflation I expect real estate will do poorly in real terms (ie versus gold).

It is at this point that I’d like to direct you to read a piece I wrote in March 2010 titled: Residential Housing: Why it Doesn’t Stand a Chance. One of the focal points of this piece was that Americans would become a lot more like the Madrilenos that I lived with during my study abroad in Spain. Basically a huge percentage of the population lived at home until marriage or even after and there is no reason that cannot happen here. Not to mention the fact that the youth in America are not only likely to rent but also to simply shove more people in the same space. All of the secular trends I identified back then hold true today and with over $1 trillion in student debt you better believe it is only going to get worse. There is also the fact that household formation generally, ie marriage, is also likely to enter a secular decline much like has happened in Japan. It has been and is my view that household formation in America is about to take a drastic turn lower and this will be the biggest headwind for the market.

Then there are the “investors” that are gobbling up a lot of the homes on the market and feel thrilled with the rental yield they can earn. Here is my problem with this thesis. First, the jobs that are being created in America are largely lower paying or part-time. Many people that become unemployed that are becoming reemployed are doing so at considerably lower salaries. Second, there is the massive pile of student debt that never goes away and those kids, if they find work will be stretched with how much they can pay. Third, sure the rental market is strong now as people choose to rent vs. buy but this is happening in the context of an economy that is barely bouncing around despite trillions in “stimulus.” What do you think will happen to rents in the next downturn? Do you think that future downturn won’t be extremely severe given all the absurd can kicking and misallocation of capital that is happening? It really seems to me that people are now conditioned to believing there can never be another crash because the government and The Bernank are there to save us. Well I have news for you. There will be and it will be awful.

Things toRead
First is this article about how Bank of America recently dropped a ten year client because they are a firearms manufacturer. This is how the bailed out huckster banksters pay back the American people for their open wallets and lowered standard of living. My favorite line from the article is:

As a bank that received $20 billion in the bailout, many are outraged that the company seemingly finds constitutional rights a professional liability.

Next there is the latest article by Matt Taibbi about how America’s number one corporate criminal gets off without a scratch since he was a top fundraiser for his puppet Obama. Also, in case you forgot, Wall Street oligarchs are untouchable of course in the mockery that passes for the rule of law. I think the following lines sum up the hypocrisy that is America today:

Somebody from MF Global has to be arrested soon. The message otherwise to middle America is so galling that it boggles the mind.

It would be one thing if this was a country with a general, across-the-board tendency toward leniency for property crime. But we send tens of thousands of people to do real jail time in this country for non-violent offenses like theft. We routinely separate mothers from their children for relatively petty crimes like welfare fraud. For almost anyone who isn’t Jon Corzine, it’s no joke to get caught stealing in America.

But these people stole over a billion dollars, right out in the open, and nobody is doing anything about it. Instead, we get a lot of chin-scratching legislative hearings, and an almost academic-style public discussion about whether or not a crime even took place. If there aren’t arrests in this case soon, ordinary people will correctly deduce that it simply isn’t a crime to steal in America, if the thefts are executed with a computer by white people in suits.

Finally, another let them eat cake article brought to you by several New Jersey state troopers, who rather than protecting the public, put many woman and children in serious danger as they escorted pro athletes on a joy ride on the Parkway. Two sets of rules folks.

TRENTON — The State Police are investigating complaints that two troopers escorted a caravan of luxury sports cars at speeds in excess of 100 mph down the Garden State Parkway to Atlantic City last month. The occupants included former Giants running back and sports car enthusiast Brandon Jacobs, according to a source with knowledge of the trip.

3 Comments

Well congrats on transitioning to the blog format Mr K.
I do like to read thought provoking material even if I don’t necessarily
agree with the arguments presented. Just keep it honest and
spin-free and I’ll keep on reading!

Mike, I like the post though what may apply to Denver’s market may not apply elsewhere. For instance in Seattle, the area is land-constrained and rents and mortgage payments have been steadily converging. On Capitol Hill (a desirable place to live for many age groups), 1 bed/1 bath rents average $1,513, 2 bed/1 bath are $1,855 per month, and 2 bed/2 bath rents average $2,455 (all per Dupre & Scott’s 3/1/2012 quarterly report).

On the other hand, there are quite a few houses a couple (married or not) or even friends could buy on Capitol Hill where their mortgage could easily be lower than their monthly rent payments. Buying a house isn’t for everyone but even with just 10-15% down, couples or friends could find 3 bedroom houses with mortgages under $2,500 (including taxes, homeowners insurance, and mortgage insurance).

If 2 people in their early 30’s put just 17% down on a $500k house on Capitol Hill (where there isn’t raw land to throw up a bunch of new houses like on the prairies outside of Denver), their mortgage payments could be at or under $2,500 a month. Those 2 could even rent out a 2nd or 3rd bedroom to someone else to help cover the mortgage for a few years.

Lastly, buying a house and borrowing at a fixed rate for 30 years is also a helpful inflation hedge in case the Bernank and the Federales decide to go with QE3.

Full disclosure: I’m in my early 30’s, recently bought a house, even more recently got engaged, and feel pretty good about the inflation hedge, especially after my old landlord tried to raise my rent by 10% yet my mortgage payments are flat and will decline in real terms if inflation heads upwards.